Pillar 2 Tax Accounting: ETR, Top-Up Tax, and Safe Harbours

Pillar 2 tax accounting turns on a single mechanical sequence: compute a jurisdiction-by-jurisdiction effective tax rate on GloBE income and adjusted covered taxes, compare it to the 15% floor, calculate any top-up tax after the substance-based exclusion, and recognize that top-up tax as a current tax expense in the period it arises. Both IFRS and US GAAP prohibit deferred tax recognition for the Pillar Two effect, which keeps the accounting mechanics simpler than the calculation feeding into them. More than 40 jurisdictions had enacted domestic implementing legislation by early 2026, so the sequence below now applies to the live financial statements of most in-scope groups.

Whether Your Group Is In Scope

The GloBE rules apply to multinational groups reporting consolidated annual revenue of at least €750 million in two or more of the four fiscal years before the year being tested.¹ Revenue from excluded entities still counts toward that threshold even though those entities themselves fall outside the operative provisions.² The two-out-of-four-year test blocks both accidental inclusion from a single revenue spike and deliberate exclusion through one engineered low-revenue year.

Government bodies, international organizations, nonprofits, and pension funds sit outside the framework entirely. Investment funds and real estate vehicles are also excluded, but only when they sit at the top of the group as the ultimate parent entity.¹

The ultimate parent entity, meaning the top-tier company in the group not controlled by another group member, bears primary responsibility for compliance. Identifying it accurately is the first practical step, because the consolidated revenue figure, the jurisdictional calculations, and the return filing all cascade from that determination.

The Three Charging Mechanisms

Top-up tax is collected through three mechanisms that apply in a strict order. The order matters for the accounting because it decides which entity in the group actually books the liability.

Qualified Domestic Minimum Top-Up Tax (QDMTT): The source jurisdiction collects top-up tax on its own low-taxed profits before any other mechanism applies. A QDMTT payment is fully creditable against any IIR or UTPR liability, so adopting one lets a country keep the revenue at home.³
Income Inclusion Rule (IIR): After any QDMTT, the IIR imposes the remaining top-up tax at the parent level. The ultimate parent entity is primarily liable; if it is not subject to a qualified IIR, liability shifts down the ownership chain to the next intermediate parent that is.²
Undertaxed Profits Rule (UTPR): The backstop catches anything the QDMTT and IIR miss. It allocates remaining top-up tax to jurisdictions that have adopted it, using a formula based on tangible assets and employee headcount, and collects through a denial of a tax deduction or an equivalent domestic adjustment.²

In practice, if the low-tax jurisdiction has adopted a QDMTT, most top-up tax is collected there. The IIR and UTPR then handle jurisdictions with no domestic top-up tax or with gaps after the QDMTT applies.³

Calculating GloBE Income

Every jurisdictional calculation starts with the financial accounting net income or loss of each constituent entity, prepared under the accounting standard used for the ultimate parent’s consolidated statements (typically IFRS or local GAAP).¹ That figure then runs through mandatory adjustments to reach GloBE income or loss.

Dividends and equity gains or losses are generally stripped out. If a subsidiary distributes profits that have already been taxed, counting them again in the parent’s GloBE income would double up the same money. Adjustments also address prior-period errors and changes in accounting policy so that year-over-year inconsistencies don’t distort the effective rate.

Certain expenses must be added back. Bribes and kickbacks are disallowed entirely. Fines and penalties from a public authority are disallowed when they equal or exceed €50,000.⁴ Minor regulatory penalties pass through; anything above the threshold gets reversed. The add-backs enforce a uniform profit definition across jurisdictions, which is the point of the exercise.

Covered Taxes and the Deferred Tax Recast

The numerator of the effective rate is “covered taxes.” The rules define these to include corporate income taxes, taxes on distributed or deemed profits under eligible distribution systems, taxes imposed in lieu of a standard corporate income tax, and taxes levied by reference to retained earnings or corporate equity.¹

Taxes that don’t target corporate profits are out. VAT, excise duties, digital services taxes, stamp duties, payroll taxes, social security contributions, and property taxes based on ownership all fall outside the definition. Top-up taxes under the GloBE rules themselves, and QDMTTs, are also excluded to prevent circular calculations.¹

Timing differences between financial reporting and actual tax payments require a deferred tax adjustment. Without it, a large accrued but unpaid tax bill could make a jurisdiction look undertaxed. Changes in deferred tax assets and liabilities are folded into the covered tax calculation for the period when the related income is recognized.

One technical point catches preparers out. Where the local statutory rate exceeds 15%, deferred tax amounts must be recast using only the 15% minimum rate.⁵ Otherwise a company could use deferred tax assets generated at a higher domestic rate to inflate its GloBE effective rate above what the 15% floor actually requires.

The Effective Tax Rate and the Top-Up

Once GloBE income and adjusted covered taxes are in hand, the effective tax rate is straightforward arithmetic: adjusted covered taxes divided by net GloBE income for that jurisdiction.¹ The calculation uses jurisdictional blending: every constituent entity in the same country is aggregated together, and a high-tax subsidiary in one country cannot offset a low-tax subsidiary in another.

If the jurisdictional effective rate falls below 15%, the top-up tax percentage equals the shortfall. A jurisdiction at 10% produces a 5% top-up rate.¹ That percentage is applied to “excess profit,” which is net GloBE income after the substance-based income exclusion. The result is the top-up tax owed for that country.

The Substance-Based Income Exclusion

The substance-based income exclusion carves out a portion of GloBE income based on real economic activity in each jurisdiction. It has two components: eligible payroll costs and the carrying value of eligible tangible assets such as factories, equipment, and real estate.¹ The excluded amount is subtracted from GloBE income before the top-up percentage is applied.

The exclusion follows a 10-year transition schedule. It began at 10% for payroll and 8% for tangible assets in the first applicable year, and both rates decline annually until they settle at 5% each.⁶ During the first six years, payroll drops 0.2 percentage points annually and tangible assets drop 0.2 as well, with the pace accelerating in the final four. For fiscal years beginning in 2026, the applicable rates are approximately 9.4% for payroll and 7.4% for tangible assets. Groups with heavy manufacturing footprints or large workforces in low-tax jurisdictions get the most relief; groups whose profits come primarily from intellectual property or mobile capital get less.

The Transitional CbCR Safe Harbour

The Inclusive Framework’s transitional safe harbour lets groups skip the full GloBE calculation for jurisdictions where top-up tax would clearly be zero. It uses data from the group’s existing Country-by-Country Report rather than a separate computational framework. A jurisdiction qualifies if it meets any one of three tests:⁷

De minimis test: Total revenue in the jurisdiction is below €10 million and profit before income tax is below €1 million.
Simplified ETR test: A simplified effective rate calculated from CbCR income tax data equals or exceeds the transition rate. That rate is 15% for fiscal years beginning in 2023 and 2024, 16% for 2025, and 17% for 2026.
Routine profits test: Profit before income tax in the jurisdiction does not exceed the substance-based income exclusion amount for its constituent entities.

The safe harbour covers fiscal years beginning on or before 31 December 2026, provided the fiscal year does not end after 30 June 2028.⁷ For a qualifying jurisdiction, top-up tax is simply deemed to be zero and no full computation is needed. The rising transition rate makes the ETR test progressively harder to meet.

Booking the Numbers: IAS 12 and ASC 740

The IAS 12 Temporary Exception

In May 2023, the IASB amended IAS 12 specifically for Pillar Two. The amendment introduces a mandatory exception: entities must not recognize or disclose deferred tax assets and liabilities related to Pillar Two income taxes.⁸ The exception is not optional, and it was made mandatory to keep financial statements comparable and to prevent entities from developing policies that might conflict with existing IAS 12 principles.

It applies retrospectively from the date Pillar Two legislation is enacted or substantively enacted in any relevant jurisdiction, and it has no stated expiration date.⁸ Companies recognize Pillar Two top-up tax as a current tax expense in the period it arises rather than building deferred tax balances. The amendment also added targeted disclosures: entities must disclose their exposure to Pillar Two income taxes and provide information that helps investors understand the potential impact, including the current tax expense related to Pillar Two.

ASC 740 Treatment

Under US GAAP, the FASB staff has taken the position that the GloBE minimum tax is an alternative minimum tax for ASC 740 purposes. The practical result matches IFRS: top-up tax is recognized as a current-period expense when it arises, and companies do not recognize deferred tax assets or liabilities for estimated future effects of the minimum tax. That avoids the complexity of projecting GloBE income and effective tax rates into future periods for deferred tax measurement.

For US-parented groups, the Corporate Alternative Minimum Tax under the Inflation Reduction Act adds uncertainty. The CAMT does not neatly fit the criteria for a qualified domestic minimum top-up tax or a qualified IIR, so it may not fully offset GloBE top-up liabilities. In years when a US group pays CAMT, its Pillar Two effective rate likely rises; in later years, when CAMT credits are used against regular tax, the effective rate could drop. These interactions remain an active area of guidance development by the Inclusive Framework.

Joint Ventures

Entities accounted for under the equity method in a group’s consolidated financial statements are generally not constituent entities because they are not fully consolidated. The GloBE rules bring joint ventures back into scope through a special provision when the group’s ownership interest is 50% or more. The ownership interest is calculated by equally weighting the group’s equity rights to profits, capital, and reserves, which can produce classifications that differ from accounting treatment.

A Pillar Two joint venture is treated differently depending on the provision being applied. In some contexts it behaves like a normal constituent entity; in others it is treated as though it were the ultimate parent of its own separate group; in others its income is excluded as an inert equity holding. There is currently no simplified computation for joint ventures, and no revenue threshold exemption applies. Groups with significant joint venture activity need dedicated processes for these entities from the outset.

Filing the GloBE Information Return

Compliance ends with the GloBE Information Return, a standardized filing built on a dedicated XML schema that aggregates the jurisdictional calculations for the fiscal year. It contains GloBE computations for every jurisdiction where the group has constituent entities, including those that have not adopted the rules.⁹

The return is due within 15 months after the end of the fiscal year, extended to 18 months for the first year a group falls within scope. The ultimate parent entity typically files with its home tax authority, which distributes the relevant sections to other jurisdictions through exchange-of-information agreements.⁹ Each implementing jurisdiction receives only the data points relevant to constituent entities located there. If the parent does not file, another designated group member must step in. Inaccurate data or missed deadlines can trigger penalties and audit attention from multiple tax authorities at once, since the same return feeds every jurisdiction’s compliance process.

1
Organisation for Economic Co-operation and Development. Tax Challenges Arising from the Digitalisation of the Economy – Global Anti-Base Erosion Model Rules (Pillar Two)
2
OECD. Pillar Two GloBE Rules Fact Sheets
3
OECD. Qualified Status under the Global Minimum Tax – Questions and Answers
4
OECD. Agreed Administrative Guidance for the Pillar Two GloBE Rules
5
OECD. Tax Challenges Arising from the Digitalisation of the Economy – Global Anti-Base Erosion Model Rules (Pillar Two) Examples
6
OECD. FAQs – Global Anti-Base Erosion Model Rules (GloBE Rules)
7
OECD. Safe Harbours and Penalty Relief – Global Anti-Base Erosion Rules (Pillar Two)
8
IFRS Foundation. Amendments to IAS 12 – International Tax Reform Pillar Two Model Rules
9
OECD. Tax Challenges Arising from the Digitalisation of the Economy – GloBE Information Return (January 2025)